Hey can you please help me with this one. I cant seem to get the correct answer.
ID: 2504423 • Letter: H
Question
Hey can you please help me with this one. I cant seem to get the correct answer. I have come up with 13.2% and 13.1% but that isnt correct.... :( Thank you!
Storico Co. just paid a dividend of $2.10 per share. The company will increase its dividend by 20 percent next year and will then reduce its dividend growth rate by 5 percentage points per year until it reaches the industry average of 5 percent dividend growth, after which the company will keep a constant growth rate forever. If the stock price is $33.99, what required return must investors be demanding on Storico stock? (Hint: Set up the valuation formula with all the relevant cash flows, and use trial and error to find the unknown rate of return.) (Do not round intermediate calculations and round your final answer to 1 decimal place. (e.g., 32.16))
Hey can you please help me with this one. I cant seem to get the correct answer. I have come up with 13.2% and 13.1% but that isnt correct.... :( Thank you!
Storico Co. just paid a dividend of $2.10 per share. The company will increase its dividend by 20 percent next year and will then reduce its dividend growth rate by 5 percentage points per year until it reaches the industry average of 5 percent dividend growth, after which the company will keep a constant growth rate forever. If the stock price is $33.99, what required return must investors be demanding on Storico stock? (Hint: Set up the valuation formula with all the relevant cash flows, and use trial and error to find the unknown rate of return.) (Do not round intermediate calculations and round your final answer to 1 decimal place. (e.g., 32.16))
Explanation / Answer
Dividend in year 1 = 2.1*(1+20%) = 2.52
Dividend in year 2 = 2.52*(1+15%) = 2.90
Dividend in year 3 = 2.90*(1+10%) = 3.22
Dividend in year 4 = 3.22*(1+5%) = 3.38
Let required return be r.
Price of stock at end of year 3 = dividend in year 4 / (r-5%) = 3.38 / (r-5%)
So stock price today = 2.52 / (1+r) + 2.90 / (1+r)^2 + 3.22 / (1+r)^3 + (3.38 / (r-5%)) / (1+r)^3
This is equal to 33.99
So 2.52 / (1+r) + 2.90 / (1+r)^2 + 3.22 / (1+r)^3 + (3.38 / (r-5%)) / (1+r)^3 = 33.99
By trial and error, we get the answer to be 13.46%
Hope this helped ! Let me know in case of any queries.